Italian Notes Slide Before Election; Bunds Gain on Haven Demand

Italian notes dropped for the fifth
week in six weeks amid speculation parliamentary elections will
result in a hung parliament, derailing economic reforms in
Europe’s biggest debt market.

The country’s two-year yields climbed toward the highest
level since the start of January as the latest polls before the
vote tomorrow and Monday showed front-runner Pier Luigi Bersani
is unlikely to gain enough seats to govern without a coalition.
Former Premier Silvio Berlusconi was in second place. German
bonds rallied this week, with yields dropping this most since
December, as a euro-area report showing manufacturing and
services shrank boosted demand for the region’s safest assets.

“There’s been a selloff in Italian assets ahead of the
election,” said Owen Callan, an analyst at Danske Bank A/S in
Dublin. “The consensus expectation is for a market-friendly
result but there’s some uncertainty and investors are a bit
scared that Berlusconi could come back in. People just want it
to be out of the way.”

Voting Ends

Voting ends on Feb. 25, the same day Italy is scheduled to
auction as much as 3 billion euros of zero-coupon notes along
with inflation-linked bonds due in 2021 and 2026. Two-year
yields have dropped almost 6.5 percentage points since reaching
a euro-era record high of 8.12 percent in November 2011, the
month Monti replaced Berlusconi.

German bunds led gains among the euro area’s so-called core
government securities this week as the European Commission
yesterday forecast the region’s economy will shrink for a second
year in 2013.

A composite index of factory and services output in the 17-
nation bloc fell to 47.3 from 48.6 in January, Markit Economics
said Feb. 21. A reading below 50 indicates contraction.

Italian bonds handed investors a loss of 0.9 percent this
month through Feb. 21, according to indexes compiled by
Bloomberg and the European Federation of Financial Analysts
Societies. German bunds gained 0.6 percent and Austria’s
returned 0.3 percent.